The “paradox of competence” adds to the problems of active management


The skill paradox makes life even more difficult for active asset managers – especially stock pickers, according to Michael Mauboussin of Morgan Stanley’s investment management unit.

“Since the 2008 financial crisis, investors have taken $ 1.8 trillion out of active management and added $ 2 trillion to passive management,” said Mauboussin, head of consistent research (vs. September at the Morningstar Investment Conference. The shift has accelerated as most stock pickers fail to consistently beat their benchmarks after fees, he said. At the same time, “available alpha” appears to be declining in This is because of the competence paradox: the notion that “luck becomes more important” as competence in an area increases and becomes more uniform.

According to him, active managers face stiffer competition as their struggling peers give up the battle with passive funds that beat them by following the clues.

“The people who stay at the table are actually the smartest players,” said Mauboussin. “Your task as an active manager has become much more difficult. “

The Skill Paradox is a phrase Mauboussin said he learned from eminent biologist Stephen Jay Gould. The concept applies to any field, including business and sports, and considers skills on an absolute and relative basis, he said. Relative competence is particularly important, he said, because as the gap between “best” and average participants narrows, excellence becomes more uniform.

For example, the stellar batting average that Hall of Fame baseball player Ted Williams hit decades ago is even harder to repeat today, according to Mauboussin. Williams, who played for the Boston Red Sox, was the last major league baseball player to hit over 0.400 in a season – a feat dating back to 1941.

A similar standard deviation in major league baseball last year translates to a batting average of about 0.350 to 0.370, according to Mauboussin. It’s “fantastic,” he said, “but it doesn’t get you close to the 0.400 threshold”.

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Despite all their difficulties today, active managers remain important because they make markets more efficient by encouraging price discovery and they provide liquidity by turning cash into an asset and vice versa, according to Mauboussin. He said indexers benefit and “are basically free riders.”

Actively managed funds are more expensive than index products, which is part of the reason investors have flocked to passive managers. Paying higher fees for underperforming performance becomes difficult to justify.

“In a very real sense, the fees paid to active managers subsidize index funds” as well as “the people of the rule-based investment community,” Mauboussin said.

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